Seeking overdraft fee revenue: the consequences of bank competition

Purpose This study aims to investigate how bank competition affects overdraft fee revenue at the individual bank level in the US retail deposit market. Competition is generally expected to lower prices and benefit consumers. This study examines whether this principle holds for overdraft fees while accounting for variation in bank business models and customer characteristics. Design/methodology/approach This study uses cross-sectional data from 579 US commercial banks with assets exceeding $1bn, combining 2016 Call Reports data on overdraft fee revenue with Summary of Deposit data to construct a deposit-weighted state Herfindahl–Hirschman Index (HHI) measuring competition. This study then uses both ordinary least squares regression and instrumental variables estimation by using historical competition levels as an instrument to address potential endogeneity. Findings Banks facing higher competition generate significantly more per-account overdraft fee revenue than comparable banks in less competitive markets. This study’s most conservate estimate shows that a 10% decline in the HHI – or a corresponding increase in competition – yields a 1.3% increase in per-account overdraft fees, implying an annual market-wide increase of $153m. Instrumental variable estimates produce larger effects. The positive relationship with competition does not hold for other deposit fees. Research limitations/implications The study’s cross-sectional design limits causal inference approaches beyond the instrumental variables approach. Future research should examine non-price program elements such as overdraft limits, fee waivers and posting orders. Practical implications Increased competition may harm low-income consumers by incentivizing banks to exploit overdraft programs more aggressively. Policymakers should consider whether separating small-dollar credit services from deposit accounts could mitigate these negative effects. Originality/value By demonstrating that increased competition encourages riskier, fee-focused behavior in overdraft markets, this work reconciles conflicting prior findings and contributes to the literature on deposit fees and bank risk-taking.